Michelle Clark Neely

English

Research Papers in Economics

April 1998
MonetaryTrends
How Long Can Strong
Loan Growth Continue?
U.S. banks have enjoyed a prolonged spurt of loan
growth in this business cycle expansion.  Since the end
of the last recession in early 1991, loans on the books of
U.S. banks have increased at a compound annual (nomi-
nal) growth rate of 5.4 percent.  And, since the first quar-
ter of 1993, loans have grown at an 8.4 percent rate.
Although loan growth peaked in mid-1995, when loans
outstanding rose 12.6 percent from their year-ago level,
growth remains strong (see chart).
Loan growth has been broad-based, with every
major category of loans showing similar rates of
increase since early 1993.  Real estate loans have
increased at a rate of 7.9 percent, while commercial
and industrial (C & I) loans have risen at an 8.8 per-
cent rate and consumer loans have grown at an 8.1
percent rate.  A strong economy and healthy bank bal-
ance sheets explain much of the continued strength in
lending.  Rates of return on lending remain high rela-
tive to alternatives, like investment securities.
One of the more remarkable aspects of this loan spurt
is the continued improvement in measured aggregate
loan quality.  Since the third quarter of 1991, when it
peaked at 3.91 percent, the ratio of nonperforming loans
(loans that are 90 days or more past due or in nonaccrual
status) to total loans has fallen continually and currently
stands at 0.95 percent.  Net charge-offs are also extreme-
ly low by historical standards.  Although Comptroller of
the Currency Eugene Ludwig, Federal Reserve Chairman
Alan Greenspan, and other bank regulators have issued
warnings in recent months of impending asset quality
problems￿based on bank exams and anecdotal reports
of looser underwriting standards￿such problems have
yet to appear in the published data.  The only category of
loans showing any recent deterioration is the consumer
portfolio.  The ratio of nonperforming consumer loans to
total consumer loans declined to 1.01 percent at year-end
1994, but has since risen to 1.46 percent.  The net
charge-off rate for consumer loans has also risen over the
past several years.  Most of the increase in these ratios
can be traced to defaults on credit card debt.
Loan portfolio composition explains much of the
overall improvement in asset quality at U.S. banks.
Single-family residential mortgages and home equity
loans￿traditionally the least risky of all bank loans as
measured by default and loss rates￿have accounted for
27 percent of the $937 billion increase in total loans
since the first quarter of 1993.  Declining interest rates
and rising household income explain much of the growth
in bank residential mortgage lending; thrift acquisitions
by banks are another factor.  C & I loans accounted for
27.9 percent of the increase in bank loans over the peri-
od.  Credit card loans, recently among the riskiest of
bank loans, have accounted for just 9.7 percent of the
increase in total bank loans since 1993.
How long will the good news on loan growth and
asset quality last?  With time￿and possibly a downturn
in the economy￿we will know more about the risks
banks have assumed in recent months.
￿Michelle Clark Neely
Views expressed do not necessarily reflect official positions of the Federal Reserve System.
  
Loan Growth
Nonperforming Loan Ratio
         
Loan Growth and Asset Quality
 
       Loan growth is measured as the simple change from its year-ago level
       Shaded area represents a business recession
1985 1987 1989 1991 1993 1995 1997
-5
0
5
10
15
Percent

How long can strong loan growth continue?

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How long can strong loan growth continue?

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